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Essex Chemical Company is considering an expansion into a new product line that is more risky than its existing product mix. The new product line requires an investment, NINV, of $10 million and is expected to generate annual net cash inflows of $2.0 million over a 10-year estimated economic life. Essex Chemical's weighted cost of capital is 12 percent, and the new product line requires an estimated risk-adjusted discount rate of 17 percent, based upon the security market line and betas for comparable companies engaged in the contemplated new line of business.
a. What is the project's NPV, using the company's weighted cost of capital?
b. What is the project's NPV, using the risk-adjusted discount rate?
c. Should Essex Chemical adopt the project?
An asset used in a four-year project falls in the five-year MACRS class for tax purposes. The asset has an acquisition cost of $6,040,000 and will be sold for $1,240,000 at the end of the project.
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